Barrett Business Services Inc (BBSI) 2012 Q2 法說會逐字稿

Good day, ladies and gentlemen, and thank you for participating in today's conference call to discuss BBSI's financial result for the second quarter ended June 30, 2012. Joining us today are BBSI's President and CEO, Mr. Mike Elich; and the Company's CFO, Mr. Jim Miller. Following their remarks, we'll open the call for your questions.

Before we go further, I would like to take a moment to read the Company's Safe Harbor statement within the meaning of the Private Securities Litigation Reform Act of 1995 that provides important cautions regarding forward-looking statements. The Company's remarks during today's conference call may include forward-looking statements. These statements, along with other information presented that are not historical facts, are subject to a number of risks and uncertainties. Actual results may differ materially from those implied by these forward-looking statements. Please refer to the Company's recent earnings release and the Company's quarterly and annual reports filed with the Securities and Exchange Commission for more information about the risks and uncertainties that could cause actual results to differ.

I would like to remind everyone that this call will be available for replay through August 25, 2012, starting at 3.00 p.m. Eastern Time this afternoon. A webcast replay will also be available via the link provided in today's press release as well as available on the Company's web site at www.Barrettbusiness.com. Now, I'd like to turn the call over to the Chief Financial Officer of BBSI, Mr. Jim Miller. Sir, please go ahead.

Thank you, George. And depending upon where you are dialing in from, good morning or good afternoon, everyone. As you saw the close of the market yesterday, we issued a press release announcing our financial results for the second quarter ended June 30, 2012. The 35% increase in gross revenues represents our 10th consecutive quarter of year over year double digit sales growth and is also an all-time quarterly revenue record for us. We attribute these results in part to building within our organization and the robust performance of our three sales channels -- customer referrals, referral networks, and internal sales staff. The results are also attributed to the return we are realizing from our investment back into the organization which is supporting this continued pipeline growth and rewarding execution in the field.

While we continue to mature our product offering, organizational culture and brand offering to our client base, we are seeing continued strength in our pipeline of new client additions while also maintaining very strong client retention. I would like to mention that yesterday's earnings release summarizes our revenues and cost of revenues on a net revenue basis as required by generally accepted accounting principles or GAAP. Most of our comments today, however, will be based upon gross revenues and various relationships, two gross revenues because we believe such information is, one, more informative as to the level of our business activity, two, more useful in managing and analyzing our operations and, three, adds more transparency to the trends within our business. Comments related to gross revenues as compared to a net revenue basis of recording have no effect on gross margin dollars, SG&A expenses, or net income.

Now, turning to the second quarter results. As I mentioned, total gross revenues increased 35% to $494 million over the second quarter of 2011. California, which comprised approximately 86% of our overall second quarter gross revenues, increased 39% due to contributing growth in PEO business. Overall, PEO gross revenues increased 38% to $464 million over the second quarter of last year primarily due to new clients as PEO business from new customers more than tripled our lost PEO business from former customers as compared to the 2011 second quarter. Our PEO revenues from existing customers experienced approximately a 7% increase year over year due to increases in both head count and hours worked. Staffing revenues for the second quarter of 2012 were flat at $30.4 million, primarily due to the addition of new business and a small increase in revenue from existing customers equaling the amount of lost business from former customers.

On a percentage basis, gross margin in the second quarter was 3.3% as compared to 3.6% for the second quarter of 2011. The key components of this quarter's gross margin are as follows -- direct payroll costs as a percentage of gross revenues in the second quarter decreased to 84.7% compared to 85.1% in the same quarter last year due to increases in the overall customer mark-up percentages as a result of price increases which we began to see flow through during much of the 2012 second quarter. Workers compensation expense as a percent of gross revenues was 4%, which is up 60 basis points from the same quarter a year ago primarily due to an increase in the provision for estimated workers comp claim costs and a higher safety incentive. We continue to work closely with our third-party actuary as well as monitor our own internal data to evaluate our workers comp reserves.

Looking ahead to the balance of 2012, we anticipate the 4% level of gross revenues for workers compensation expense to continue. SG&A expense has increased 19% to $10.6 million versus Q2 of 2011 primarily due to increases in management, payroll and profit sharing as well as to the variable expense components within SG&A to support the business growth. Our tax rate is currently at 33.5% and we expect this rate to remain at a similar level for the balance of 2012.

Now, turning to the balance sheet at June 30. Cash, cash equivalents, and marketable securities totaled $68 million compared to $81.8 million at December 31, 2011. This decrease is primarily due to the completion of the BBSI repurchasing 2.5 million common shares from the estate of William Sherertz as well as 500,000 common shares from Nancy Sherertz or a combination of $24.9 million in cash and $34.8 million of non-convertible, non-voting, mandatorily redeemable preferred stock for an aggregate purchase price of approximately $59.7 million or $20 per common share in March of 2012. The 3 million common shares were retired following the repurchase, the mandatorily redeemable preferred stock is reflected on our balance sheet at June 30, 2012, as a liability given its mandatorial redeemable nature. The preferred stock has a provision where if we redeem the preferred stock in full before December 28, 2012, no dividend would be payable. As a result, we are nearing completion of putting a bank line of credit in place in order to redeem the preferred stock within this time period.

Out of the $68 million in total cash and investments, we consider approximately $20 million as truly free to invest back into our business, distribute to shareholders, spend on growth initiatives, or repay our anticipated bank line that will be -- that will redeem the preferred stock. We generated approximately $13 million in cash flow during the first six months of 2012. Free cash flow during the six months of 2012 was approximately $7 million. Most of our cash generated from operations is in the form of free cash flow except for the build in the workers compensation accrual as cash used to fund our insurance subsidiaries is primarily generated from the workers compensation expense we recognize but do not immediately pay out to third parties. Said another way, over the course of the year our free cash flow will generally be in line with our net income.

Now, turning to our outlook for the third quarter of 2012. We are expecting gross revenues to range between $525 million and $530 million. This projection represents a likely mid-point increase of approximately 30% over the $406 million in gross revenues for the third quarter of 2011. The projected increase of 2012's third quarter gross revenues is based upon recent revenue trends. The range of anticipated diluted earnings per common share for the third quarter of 2012 excludes an accrual of a dividend on the redeemable preferred stock as previously mentioned. We expect to redeem the preferred stock in its entirety before September 28, 2012, whereby no dividend would be payable. We expect diluted earnings per common share to range between $0.70 and $0.73 compared to $0.54 in the same quarter last year.

Please keep in mind that third quarter of 2011 included a favorable income tax rate benefit related to the effect of a much lower annual effective income tax rate attributable to the life insurance proceeds received following the passing of the Company's former President and CEO. Without this benefit, diluted income per common share was $0.42. It should also be noted that the 2011 third quarter included the $3 million estate and founder shares in the calculation of diluted income per share. The projected percentage increase in the range of net income is less than our gross revenue expectations due primarily to a projected decrease in nonoperating income as a result of lower forecast interest income as compared to the third quarter of 2011.

We continue to be very enthusiastic about the momentum in our financial result over the past several quarters, and I look forward to addressing you again on our third quarter earning call. Now, I would like to turn the call over it our President and CEO of BBSI, Mike Elich, who will further comment on the recently completed second quarter and our outlook for the third quarter of 2012. Mike?

Good morning. Overall, very, very pleased with a great quarter. Very difficult not to be and they'd probably hang me in the field if I wasn't.

We see -- we continue to see strength in our new client adds, and I'm very pleased with client retention, client quality may be as good as I've seen it since I've been at the Company. In the quarter we added 182 new clients. We lost 27 new clients -- 27 clients, one to AR issues, 11 were canceled for non-AR issues, typically risk or client quality, nine businesses were sold, one business left to go on its own for pricing, and five left to go to a competitor. That's a net of 155 clients that we added in the quarter, an increase of 31% over second quarter 2011 quarter over quarter net build of 118.

We also saw strength in our clients beginning to start to hire. We saw 41% of our clients added headcount where 28% of our clients reduced headcount, 51% of our clients remained unchanged in the mix of our PEO business. This is a change from previous quarters where adds and deletes were pretty much even. About 60% of our clients increased hours while 35% of our clients reduced hours. Typically, we see that as a precursor to hiring or at least seasonal moves that allow companies to add capacity while not adding headcount, but at the same time starting to stress internal capacity.

The Company overall continues to run very well. We continue to make progress in aligning our internal organizational structure to support growth in our client base. We've made significant progress in the quarter aligning investments in corporate infrastructure to support future growth. Our pipelines continue to remain very strong as the brand continues to mature while companies are looking for methods to better leverage their internal resources.

Overall by region, we still continue to see very strong growth coming from both southern California and northern California. Both the mountain states and northwest continue to make positive -- have positive momentum, and we're seeing very strong progress there. And on the East Coast we're doing extremely well as well.

As far as tail winds go, we continued retention of our top talent while we retained 95% plus of our client business. Organizational -- and we continue to mature. Our pipelines remain very strong. We continue to hire and retain very strong talent in all disciplines. We'll continue to invest in infrastructure to support growth and innovation while managing short-term expectations, and we'll continue to take a conservative approach in estimating -- in estimates in workers comp accruals.

On a go-forward basis, we're continuing to mature the two branches that we open in the first quarter. We have made a great deal of progress this first six months of 2012 in broadening our foundation to support a larger company. We continue to mature management systems to better support operations and product quality. We will continue to reinvest back into the organizational infrastructure to support our growth curve, and we continue to focus on our internal continuous organizational development process.

Overall, very pleased with the direction things are going. I'm looking forward to measuring our progress in the next couple of quarters. With that, I'll open it up for questions.

Thank you, sir. We will now begin the question-and-answer session.

(Operator Instructions)

And our first question comes from the line of Jeff Martin with ROTH Capital Partners. Please go ahead.

Thank you, good morning, Mike and Jim.

Good morning, Jeff.

I was hoping you could drill down with a little more insight on workers comp accrual. You did mention you feel like you're conservative. Maybe you could give some additional detail around duration of claims and closing them out, the recent trends on being able to close them out, and the overall cost of them? And then characterize in some fashion the degree of conservativism that you're factoring in?

The challenge in that area is that you're always pegging your accrual based on performance of six years ago. And -- five, six years ago. So, it's less about what you're seeing directly in cost of claims and where they're closing and more around what the trend has been as a reflection of what you see going back many years. So, what we're in a position and forced to do is not necessarily look at what's going on today with existing year, but to have to use data in the past that says that in the current year at some future date we will have an estimated liability.

So, in that process we're just continuing to accrue dollars against our current run of payroll given that we have had a pretty good jump in top line growth. It forces you to look at things in a little more conservative manner while you might even be adjusting your underlying charge to your client. And in doing so it -- we kind of feel that at this point we've increased that accrual rate to the extent that we are taking a more conservative approach to how we're estimating those costs.

Okay. Great. And then you mentioned you raised pricing a bit in the quarter. What specific categories did you allocate that to when you were communicating with clients or do you communicate to that degree?

Well, it's continuing to be a leveling of our client base in that many of our clients have been with us for many years. And as you've gone through the recession and you watched everything from your unemployment rate change to maybe what the market is offering in the world of workers comp to just even our product maturity and where they're at as an organization. Much of the price changing in the field has been a leveling matching client, client quality, and what we have to invest back in to them to accommodate what we need to charge them to be able to do so.

So, what we've seen in that is -- and where it reflect itself is in reduced payroll percent as we go and increase our mark-up for customers. There may be a couple customers that went down in the quarter, but overall on an aggregate we've seen an increase in our overall mark-up to customers.

Okay. And then I've gotten a couple of questions about the mix of client base from the sector perspective. Maybe you could compare and contrast it today versus, say, five years ago because five years ago there was a lot more construction-related clients in the base. It would be helpful to get your thoughts on that.

I would say that the client base remains predominantly blue collar/gray collar. But as far as sector goes, we see very little concentration in any one sector. I think the largest concentration we might see in any one grouping is probably 5%, maybe even less than that.

So, in the last five years we've diversified against much of the construction base that we had built in 2003 through 2006/2007. And in turn have found that even our pipelines much more diverse in nature as they're coming in and the clients are even doing business with us for many different reasons but much more on the value add.

It also depends on where we're receiving our pipeline. And as we continue to mature and expand our customer referral bracket, we see an even more diversified client base coming in. So, overall though, I would say that our mix of clients across the board is much, much more diversified than it ever was where if you had 20% in the construction six, seven years ago, that's been cut -- it's less than 5% today.

Okay. And then last question would be your growth strategy looking out three to five years from branch perspective within California, let's say? And then is there a strategy to expand geographically into certain other regions that are non-California?

I think the biggest way to peg our growth strategy is to look at how we're incubating talent. One of the things that we've done in this last 12 months and have been able to look structurally at our growing branches is to understand how to in a sense replicate branches inside of branches. And one of the things that we've done is created a system where in our larger branches, say something over 100 million, we begin to create business units within those branches which in a sense replicate almost a branch operating unit that could stand on its own.

Within that, one of the things is that we are going to continue to incubate talent within those groupings that as opportunities present themselves, whether it's in California or whether it's in markets that we don't exist in today that we'll be able to roll that talent and incubate branches but get a much stronger head start.

The biggest challenge we run into in opening geographic areas is, one, finding -- having a footprint that allows us to open market. And so we're working on how we capture our referral markets and how we can expand those to new markets. The second part is culturally aligning a branch that you'd open in, say, Texas is a challenge if you don't have people that are carrying the same message from your existing operation to those new markets. Because now you're working against currents in the new market while you're trying to mature culture within those new markets of how we operate.

So, by building these business units it's given us I think It's unlocked a pretty large key for us in our previous lock for us in that we can now take those teams as they mature or those individuals for most teams and we can is more flexibility in relocating our talent to incubate new markets. So, from a geographic standpoint as we continue to see the mountain states come on line and we accomplish a lot of the infrastructure build that we're working on right now, it will free up excess capacity for us to again move further east at some point.

Great. Thanks, guys. Good job in the quarter.

Thank you.

Thank you.

(Operator Instructions)

Our next question comes from Josh Vogel with Sidoti. Please proceed.

Thank you. Good morning, Mike and Jim.

Good morning, Josh.

Good morning.

With regard to your branches, I was just wondering if you could talk to the capacity that is at the existing branches and how much is left to accommodate the remarkable growth that you're achieving right now? And also if you have any plans to open branches in the second half of the year?

Again, with the structural alignment that we've brought and our ability now to build branches inside of branches, it unlocks a tremendous amount of capacity for us. And given that we have very, very small penetration in most every market that we're in, we could continue to grow significantly in existing markets just by maturing our brand in those markets and also maturing our talent in those markets.

But I think the real key for us in unlocking the capacity has been the ability to build business units within existing branches which, in a sense, replicates the branch. So, rather than having to open a new physical location, we're pretty much accomplishing much of the same thing by building new business units inside of a branch while having to -- not having to replicate existing leadership and also having to add geographic expense and additional SG&A to do so.

Okay. And maybe building off that, what about additions of sales associates planned for the back half of the year within those branches?

We continue to see our strongest sales teams being, one, our branch managers. Our sales associates are in a sense pipeline managers managing our referral networks and managing message and then feeding those opportunities both back to the branch and back to the business unit.

As far as talent goes, we are always looking for talent. And, fortunately, we're in a great position that we can hire people, we're hiring talent when we find it. And, fortunately, with a lot of the work we're doing, we've done a couple things.

One, we're pretty good at understanding what type of person is successful in our organization. So, our success rate's pretty strong. And then, secondly, because our brand is maturing very well in most markets, we've found ourselves as a place where people want work.

Okay. Now, looking at California, you're seeing a lot of growth there. It seems like there's a lot of opportunity. It also seems like the market's still a little bit under penetrated. I was curious from a competitive standpoint, are you seeing more competitors or the competitive environment intensify at all in California?

We had a record build in clients, well, at least 31% year-over-year and we lost five clients to competition. We're not seeing that and -- year over year I keep thinking that somebody's going to show up and try to be able to penetrate that, but we generate a lot of customer loyalty in the way we approach and invest back into our clients. And so, no. Today, we have not seen where we're up against a tremendous amount of competition from other [parts] in the market.

Okay. And of the business that you do lose to competitors, are these local players or are they more of the national players?

A little of both. There aren't that many local players anymore. Most of them have been consolidated through the recession. What you'll find is that some of the maybe larger regionals will expand into our space from time to time.

Interesting enough, they'll show up for six months to a year and then they're gone. They never seem to have the staying power to do well. And so we're not seeing anybody really grab a toe hold into one of our markets and be able to take that. And we're not seeing where the small mom and pop is starting up from scratch and trying to venture into this business where you've seen that in the past, basically the 1990s and the early 2000 years.

Okay. I'll jump back in the queue. Thank you.

Thank you.

Thank you. And our next question comes from the line of Kevin Casey with Casey Capital. Please proceed.

Number of branches, but it seems to be irrelevant going forward. Can you give us the number of business units?

We have 50 branches right now. If I were to scale that out, we'd probably have in excess of 100 business units and that will grow. It might be closer to 100.25. That was actually a very good question and something we haven't looked at closely but we will start to look at that because I think that does represent much more of our scalability where, for instance, in Ontario we have five business units with in the one branch.

And most of our 100 million-plus branches have in excess of three and growing to four business units. Where emerging branches will in a sense have one -- our one business unit and as they reach the point where they have two pods or two teams, then we'll hire back into them and then they'll become business units. But that's something that will start to count and we'll start to measure a little closer. And I actually had that thought last night myself.

And then you mentioned a little bit about the talent. How easy or hard is it to hire talent? Is it probably easier because of the recession we had given over the last 10 years? And then how fast can you do it?

My opinion on hiring talent, if you're really looking for real strong talent, it doesn't matter what the economy is. And, in fact, in a down economy it's almost harder because people don't want to move. It's kind of a last in, first out principle.

But, for the most part, what we are seeing is that we've built a reputation and people want to be part of our organization. And because we've been able to have staying power through the recession. And really even though we've had some noise in the last couple of years had pretty strong staying power, people want to work for us. And I think that finding talent is one thing, the retention of talent is the other. And we have extremely high retention.

I can still go back and say over the last few years we've -- other than maybe for a couple one or two personal reasons, we have not had anybody leave that we wouldn't have -- that we really wanted to keep. And, for the most part, our base that we've been building over the last five years has been rock solid. And of the new people that we're bringing in, we continue to find stronger and stronger talent every day. So, finding and retaining people is important.

One of the things that we are working on and, in fact, it's great, we have one going on right now, but as people are hired into our Company right now, within three to six months of their new hires, they're coming up and going through a 101 boot camp of who we are. And one of the things that was a concern as we've evolved is that if we were to leave that just to the field, we're continuing to make a copy of a copy. We're now having people come up. We're having an influence on the direction and vision of where people and how people are looking at the business long term.

And so that's all part of our organizational development plan and maturing the talent that we're bringing in. And then because of that it's helping us retain the right people and helping us give the avenue to sustain or expand that.

Great. And congratulations.

Thank you, Kevin.

Thanks.

Thank you. And at this time this concludes our question-and-answer session. I'd now like to turn the call back over to Mr. Elich for closing remarks.

Just want to say thank you for staying in touch and having an interest and understanding what we're doing. We're very excited about where we're going. It's much of what we've been talking about the last couple of years.

It's kind of nice to get a win without a lot of noise in the overall quarter and to be able to start to see some of the things coming together. And I think that for those of you that have been watching us for a while, it's just going to get better from here. Thank you.

Ladies and gentlemen, this concludes our conference for today. Thank you for your participation. You may now disconnect.